Tax Type
Retail Sales and Use Tax
Description
Restaurant facility; Lease that includes tangible personal property
Topic
Property Subject to Tax
Taxability of Persons and Transactions
Date Issued
04-29-1994
April 29, 1994
Re: §58.1-1821 Application: Retail Sales and Use Tax
Dear**********
This will reply to your letter of January 28, 1994 in which you seek correction of a retail sales and use tax assessment on behalf of ******* (the "Taxpayer") for the period January 1990 through December 1992.
FACTS
The Taxpayer is an out-of-state corporation which operates a number of restaurants, including one located in***(Location. #1) and one located in **** (Location #2). At both locations, the Taxpayer leased facilities, equipped with kitchen and dining items, and paid rent based on a fixed percentage of gross sales each month.
An audit by the department resulted in the assessment of additional use tax. A portion of the assessment was based on the determination that part of the rent paid by the Taxpayer for the restaurants constituted a taxable lease of tangible personal property. You contend that the leases are for real property only and, therefore, the lease payments are not subject to tax. You also object to the method used by the auditor to determine the amount of the lease payment attributable to tangible personal property.
DETERMINATION
Va. Code §58.1-602 is clear with regard to the imposition of the sales and use tax to sales, leases and rentals of tangible personal property. While the lease of real property and fixtures attached thereto is not subject to the tax, the lease of tangible personal property is taxable.
The information provided indicates that the leases in question are for both real property and tangible personal property. In both leases, the lessor is required to provide items of equipment "listed on Schedule B attached hereto and incorporated by reference herein..." According to the Taxpayer, no "Schedule B" ever existed. However, the auditor states there was a separate Schedule B for Location #2. In the lease for Location #1, paragraph 8 provides that the lessee shall have the right to remove or replace any or all equipment, furniture, trade fixtures and furnishings not furnished by the lessor, indicating there is equipment, furniture, trade fixtures and other items furnished by the lessor which the lessee may not remove. In fact, you have included a list of items which are provided as part of the leased premises for both locations .
You maintain that the items furnished by the lessors should not be considered tangible personal property but rather real property fixtures. You cite Danville Holding Corp. v. Clement, 178 Va. 223 (1941) and Transcontinental Gas Pipeline Corp. v. Prince William County, 210 Va. 550 (1970) to support your position.
In Danville Holding, the court dealt with certain machinery and equipment which was installed for use in a building. The court found that the machinery and equipment were fixtures based on the nature of the items and the uses or purposes for which they were held. In Transco, the items at issue (gas mains) were buried in the ground and annexed to real property. The court stated that the intention of the party making the annexation is the chief test to be considered in determining whether the item used in connection with realty is to be considered real or personal property. The court ruled that the gas mains should be classified as real property.
In Danville Holding and Transco, the intention of the owners was readily ascertainable, as they owned the property in question. In this case, the intention of the owner (the lessor) is not known. You speculate that the lessor's intention was to make the items "a permanent part" of the facilities; however, this has not been proven.
The auditor did recognize that certain equipment and items furnished by the lessor were fixtures. A review of the audit workpapers for Location #2 reveals that the auditor identified all equipment, furnishings, fixtures and tangible personal property furnished by the lessor and removed those items considered to be fixtures of the realty (e.g., sinks, worktables, refrigeration systems). Only items not considered part of the realty because of their nature and use were included in the computation of tangible personal property leased to the Taxpayer and subject to the tax.
To follow your argument, all items furnished in connection with a lease of real property would be considered fixtures if the lessor
intends for the items to remain with the real property. This is contrary to well established department policy which provides that in a lease providing both real and tangible property, the portion of the lease involving tangible personal property is taxable. See P.D. 92-141 (8/10/92). The fact that the lessor intends for certain items of tangible personal property to remain with the real property does not transform that tangible personal property into a real estate fixture.
You also contend that all of the items supplied by the lessors are specifically adapted to and used as part of the operation of the restaurants. In accordance with Danville Holding, these items should be treated as fixtures. However, I do not agree that the items at issue are specifically adapted to the use of the property. Unlike the situation in Danville Holding, where the owner's machinery and equipment were installed to conform with renovations made by the owner to the building, the items in the Taxpayer's case are not specifically adapted to the building.
The Taxpayer clearly took possession and used the tangible personal property assessed in this case. Title to the property remained with the lessors, but the Taxpayer benefitted from the furnishing of this property, including tables, chairs and kitchen equipment. While no specific consideration was stated in the lease for the tangible personal property, the fact that the property was provided most likely was a factor in computing the percentage of gross sales to be paid as monthly rent. Therefore, I find that the leases in question were for the rental of both real property and tangible personal property. The portion of each lease involving tangible personal property is taxable.
True Object Test: You argue that the true object of the Taxpayer was to secure the use of a piece of real property. Therefore, the payments under the lease should be treated as real property rental payments. Under the true object test, this treatment is required regardless of the fact that certain tangible personal property was transferred along with the real property.
The true object test, set forth in Virginia Regulation (VR) 630-10-97.1, is applied in order to determine whether a particular transaction involving both the rendering of a service and the provision of tangible personal property constitutes an exempt service or a taxable retail sale. The test is not applicable to the Taxpayer's situation, because the transaction does not require a determination of whether a sale or service has occurred.
Calculations Supporting the Assessment: The Taxpayer disagrees with the calculations used in the audit, stating they do not reflect relative market values of the different classes of leased property. The Taxpayer also finds fault with the fact that the auditor did not perform an independent evaluation of the property at Location #1 but instead adopted a figure used in a prior audit of that facility.
Va. Code §58.1-618(C) provides:
-
- In the case of the lease of tangible personal property, if the consideration given or reported by the dealer, in the judgment of the Tax Commissioner, does not represent the true or actual consideration, then the Tax Commissioner is authorized to fix the same and assess and collect the tax ... The assessment so made shall be deemed prima facie correct.
As mentioned above, for Location #2 the auditor first determined which property qualified as tangible personal property. The auditor then computed the annual depreciation for each class of property - personal property, fixtures, building and land (while it is recognized that land is not depreciable, the auditor included it in the computation at the insistence of the lessee). Annual depreciation for the tangible personal property was divided by the annual depreciation for all the property; this percentage was then applied to the gross proceeds derived from the lease to determine the amount of the lease payment attributable to tangible personal property. It is my conclusion that this valuation method is reasonable. In the absence of a formal lease for tangible personal property, or a breakdown of the value of the real property versus tangible property included in the lease, the auditor must rely on the best information available.
For Location #1, the auditor relied on information derived from a previous audit of the facilities. You object to this approach but give no indication as to why the computation is erroneous.
In an application for correction of an erroneous assessment under Va. Code §58.1-1821, the taxpayer has the burden of proving that the assessment is erroneous by showing what the correct assessment should be. This burden cannot be met if the taxpayer does not provide all the necessary documentation. In this case, the Taxpayer has not provided a breakdown of the tangible and real property components of the lease charge. Therefore, the auditor used the best information available to compute the taxable portion of the lease.
Accordingly, I can find no basis upon which to revise the assessment. The Taxpayer will shortly receive an updated bill with interest accrued to date. The bill should be paid within 30 days to avoid the accrual of additional interest.
Sincerely,
Danny M. Payne
Acting Tax Commissioner
OTP/7653F
Rulings of the Tax Commissioner